This chapter covers the federal government's deficit and debt problems. After defining different types of deficits, the size of the deficit is discussed.

The effects of deficits are discussed. It is emphasized that the effects depend on the means by which the deficit is financed (issuing bonds versus issuing money) and whether the economy is at full employment.

After discussing the Gramm-Rudman-Hollings Act and considering the Bush and Clinton deficit reduction programs, we discuss a constitutional amendment that would require the federal government's budget be balanced annually.

The size of the national debt is also discussed. The effects of the debt are noted. It is concluded that concern about the debt is warranted, but not for some of the reasons commonly cited.

Finally, it is emphasized that few economists recommend ru~ning budget surpluses to reduce the debt. Instead, most economists favor significantly reducing or eliminating the deficit. If this can be accomplished, the debt will grow less rapidly than GDP and the debt will become relatively less important.

Instructional Objectives

After completing this chapter, your students should know:

1. The difference between structural and actual deficits and why economists are particularly concerned about structural deficits.

2. About recent trends in the federal government's deficit and debt.

3. That running deficits during recessions has some beneficial effects, but the justification disappears when the economy is at full employment.

4. That depending on the circumstances deficits can (1) cause inflation, (2) reduce the nation's growth rate because they raise interest rates and therefore lower investment, and (3) increase the balance-of-payments deficit by altering the value of the dollar.

5. That the effects of a deficit vary depending on whether it is financed by issuing bonds or by issuing money and whether the economy is at less than full employment or at full employment.

6. That substantial popular support exists for a constitutional amendment requiring that
the federal government's budget be balanced each year, but that many economists do not favor such an amendment.

7. That the Gramm-Rudman-Hollings Act, until 1990, worked to reduce the deficit.

8. That the national debt has harmful effects both to present and future generations.

9. That most economists favor significantly reducing or eliminating the budget deficit so as to slow the increase in the national debt, rather than running budget surpluses to reduce it.

Terms from Previous Chapters

You should review the terms in this section at the beginning of your discussion of the chapter.

aggregate demand curve (Chapter 11)

aggregate supply curve (Chapter 11)

unemployment rate (Chapter 12)

recession (Chapter 11)

inflation (Chapter 13)

capital stock (Chapter 11)

fiscal policy (Chapter 11)

personal consumption expenditures (Chapter 11)

gross private domestic investment (Chapter 11)

exports (Chapter 11)

imports (Chapter 11)

Key Terms

These terms are introduced in this chapter:

budget deficit

budget surplus

structural deficit

actual deficit

loanable funds national debt

Additional References

In addition to the references in the text, instructors may wish to read or assign one or more of the following: